Australia’s AAA credit rating – 3 factors that can derail the position 

Summary

• The predicted rise in the budget deficit, this financial year is unlikely to affect the AAA rating of Australia, as per S&P Global.
• The economy is expected to recover from the recession in fiscal 2021, and the government’s fiscal balance is likely to improve in the next few years, as per the rating agency.
• A high budget deficit, a potential second wave of coronavirus and sluggish economic recovery are the 3 factors that can derail Australia’s rating position.

S&P Global Ratings stated that Australia’s AAA credit rating could survive the projected rise in the budget deficit this financial year. The rating agency noted that the extension of JobKeeper and JobSeeker programmes would not put the credit rating at risk, given that the JobKeeper cost is lower when compared to March prediction.

As per the agency, the AAA rating of Australia shows that the economy would start recovering from recession in fiscal 2021. While a large fiscal deficit would be sustained in fiscal 2021, fiscal balance is anticipated to get better in the next few years.

However, the agency advised that there were certain risks that could downgrade the country’s rating if coronavirus caused more long-lasting financial damage than is being estimated, keeping its negative outlook intact.

Below are 3 factors that can derail Australia’s AAA rating.

1. High budget deficit

Australia is set to record the biggest budget deficit as coronavirus induced lockdowns has pushed the economy into its first recession in last 3 decades.

As per a joint statement by Treasurer Josh Frydenberg and Finance Minister Mathias Cormann on 23 July, Australia’s budget deficit is projected to deepen substantially to $85.8 billion in FY20, ended 30 June 2020. The shortfall is predicted to widen further to $184.5 billion in FY21, which is also the largest deficit since second world war.

Frydenberg has stated that the government has provided $289 billion (14.6% of GDP) worth of economic support to workers, businesses, and households. The economic stimulus included the JobKeeper wage subsidy program that helped jobless people to find jobs, as well as limit job losses and gave support to worst-hit industries like education and tourism amid COVID-19.

The surge in spending was combined with a fall in tax receipts of $31.7 billion in 2019-20, and an anticipated $63.9 billion drop in 2020-21. The additional spending is anticipated to result in a significant rise in the debt levels of the country. Gross debt rose to a record high of $684.3 billion on 30 June 2020 and is projected to peak $851.9 by 30 June next year.

Further, Finance Minister stated that debt levels have been lower for the country even with an additional expenditure, when compared to debt levels of other countries. However, additional spending can cause a surge in debt levels of the country.

ALSO READ: Australia to record biggest postwar deficit in 2020

Fitch forecasts that the government’s fiscal support would push government gross debt/GDP ratio to nearly 60% by the end of 2021 (above the forecast ‘AAA’ median of 46%). Government measures on rebuilding fiscal buffers through consolidation and pro-growth structural reforms would determine how government debt/GDP ratio fares in months ahead.

2. The second wave of coronavirus

Victoria recorded 532 new infection cases, and 6 deaths, as on 27 July 2020. Five out six deaths are related to COVID-19 outbreak in aged care centre.

Experts note that the second wave has much higher cases and have majorly come from community transmission, whose roots remain under scrutiny. The source of the infection is unknown that makes the testing process, tracing, and isolation of known contacts of the confirmed cases difficult.

ALSO READ: Australia at risk of next wave of infections, Victoria announced $534m business support package

Premier Daniel Andrews has stated that if the state had not put current restrictions in place, Victoria would have been recording 1000s instead of 100s of new cases every day.

By 25 July, 229 Victorians were in hospital, out of those, 42 people were in intensive care unit. He also added that there were 500 active cases in aged care facilities, and they were witnessing a surge in cases. He observed that much work needed to be done there as aged care centres were difficult to manage due to many casual workers employed there, who could bring virus to work.

Dr Brett Sutton, Australia’s Chief Health Officer stated that the second wave has not been similar to the first one and the virus cases have stayed quite high, without much fluctuations in the last week. He also asserted the need of wearing a mask to help fight against the second wave of coronavirus. Professor Sutton also stated that the current focus must be to prevent the virus spread in aged care centres, workplaces like warehouse distribution centres and food production facilities.

The trajectory of the pandemic remains uncertain as evident in the recent wave of coronavirus cases in Victoria, that poses downside risks to the near-term economic and fiscal outlook that can further affect the rating of the country.

3. Sluggish economic recovery ahead

Unemployment is projected to be at 9.25% by Christmas, and economic growth is expected to contract by 0.25% in 2019-20 and additionally by 2.5% in 2020-21, as per Treasury estimates.

Unemployment is expected to rise despite many private-sector jobs staying subsidised by the government through JobKeeper program. Unemployment would have skyrocketed, and consumption would have dived, putting several businesses and workers at risk, without fiscal support by the government. Frydenberg confirmed that about 870,000 jobs were lost, while more than 1 million Australians witnessed a reduction in their working hours (in some cases 0) between March and May.

The recession resulted in a budget cost of $32.4 billion in 2019-20 and $72.2 billion in 2020-21. The budget status is amongst the worst since the second world war, and the rapid recovery after the war due to surge in immigration is not anticipated to reoccur.

However, Finance Minister stated that Australia was in a much better position than other countries, and the government had worked in an orderly manner to fight the economic fallout of the virus, which included the introduction of JobKeeper and JobSeeker programs to support the labour market.

Fitch Ratings stated that the targeted extension of both JobKeeper and JobSeeker would support employment and household income helping in offsetting labour market and budget risks in the near-term.

The full budget for FY21, due to be announced in October, would give more depth into government’s plan of fiscal strengthening in the medium term, as well as its agenda of structural reforms.